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Stuffing money into your digital wallet is getting easier

Insight: Social networks upset established borrowing and investing practices

By

DanielGorfine

AFP/Getty Images

WASHINGTON (MarketWatch) — The next wave of Internet-driven disruption is here: individuals can put their money where their mouse is, as new online platforms provide a scalable model of community banking and finance. The result will be a transformation in how we borrow money, pursue careers, and invest.

This future will be led by entrepreneurs who marry the benefits of social networking, data analytics, and finance. Many of these innovative models focus on Millennials — those born in the early 1980s to early 2000s — given that cohort’s fluency with the Internet, interest in entrepreneurship, distaste for traditional financial institutions, and unique (and frequently unmet) financial needs and preferences.

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An Accenture study released last month found that almost 40% of individuals aged 18-34 would consider switching to a “bank” with no brick-and-mortar branches, and 74% noted that currently their engagement with traditional banks was transactional, not relationship-driven (perhaps indicating an increased willingness to leave such a bank).

Against this backdrop, online platforms now offer individuals a hybrid model that provides the benefits of social networking coupled with access to capital. Recent college graduates, for example, through sites like SoFi and CommonBond can refinance existing student loans. These firms are just beginning to tackle a category of consumer debt greater than $1 trillion and whose overhang significantly impacts life decisions — from pursuing careers and starting a business to marrying and having children.

Another set of platforms, including AngelList and CircleUp, are building entrepreneur and startup virtual ecosystems where promising ventures and projects can seek investment from groups of angel investors through a novel form of online venture capital. This crowd-sourced investment at its core is taking social networking to another level: instead of giving a ‘thumbs up’ to a concept that is liked, individuals with a click of a button can financially support an online peer.

Before community banks were squeezed by shifting market and regulatory dynamics, one of the key advantages they held was that they could get to know borrowers on a personal level. Then larger banks entered the scene with a scalable and more efficient model that emphasized speed and standardization. But it is not worth the time and cost for a large bank to personalize a loan.

The Internet enables a revolutionary online finance model that recreates some of the best aspects of community banking and finance — but in a scalable and efficient way. This model relies on an individualized experience: by aggregating and analyzing data, a platform can get to “know” the individual, and then allow that customer to interact with the broader social network on the platform or benefit from tailored advice.

Student-lending platforms offer a good example. Based on algorithms that look at the borrower’s repayment history, career outlook (driven by data on outcomes from particular schools and courses of study), social networks, and other online activity, the platform recognizes an individual in a way that may provide more perfect information regarding the customer’s risk assessment. Many financial products and services can then be priced and offered to these individuals on favorable terms. And in online venture capital ecosystems, the reputation of entrepreneurs or investors will go global, with access to the best deals.

Another advantage of these platforms is their social networks. Using the platforms focused on students and graduates, Millennials can access a network of experienced individuals who serve as mentors, provide career advice, or even help secure a job. And on the investment platforms, the broad ecosystem of entrepreneurs, investors, startups, and talented individuals is enabling similar job-placement services, vetting of business ideas, democratizing of investment opportunities, and mentorship for entrepreneurs.

Such changes raise important issues. First, transparent information about individuals will lead to increased segmentation of the population: those with the least credit risk or best prospects will receive even better financial terms for products or investments. Second, there will be questions and scrutiny about new online methods of assessing credit risk, and the importance of a positive personal online reputation will be paramount. Finally, rules and regulations developed for a rigid, analog world will increasingly clash against more flexible innovation.

But there’s no going back — the Internet of Finance is here to stay. And, ironically, the same Internet that has been blamed for depersonalizing human interaction will drive a new wave of social networking, bringing back community and personalized relationships to financial services.

Daniel Gorfine is the Washington-based director of financial markets policy and legal counsel for the Milken Institute. Follow him on Twitter: @DGorfine.

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